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A rapidly moving object is about to hit a stationary obstacle lying directly in its path. The Eurozone crisis is unfolding before our
very eyes and the sooner the crash occurs the better.

I take up the three challenges posed by George
Soros’ recent remarks at the Festival of Economics, in Trento, Italy, at
the request of OpenDemocracy.

The
foundations of economic theory are flawed

Hundred percent agreement here. Mainstream neo-classical economics as taught
at universities all over the world does little to improve our understanding of
economic reality and does much harm by producing misguided economic policies.

My take on this is based on the so-called
Austrian approach to economics (Mises and Hayek)

· All our decisions are taken on the basis of very incomplete knowledge (the
neo-classical assumption of ‘perfect knowledge’ is so far removed from reality
that it practically guarantees false perceptions and policy conclusions);

·
Equilibrium is therefore never achieved and in fact is a pure
fiction of the mind;

·
The correct distinction is not
between equilibirum and disequilibrium, but between coordination and conflict;

·
The miracle is that there is not more conflict, given our vast,
irreducible and inevitable ignorance of the information needed to avoid errors;

·
Human beings try to avoid mistakes
and coordinate their decisions a lot of the time (we generally try not to bump
into each other walking down a busy street);

·
But economic mis-coordination
occurs constantly (too many lollipops, not enough cherries) though generally on
a small scale which can be corrected by an iterative process of trial and
error (but not always…) ;

·
Flexible market prices are an
essential part of the economic coordination process, providing coded real-time
information on needs and means ;

·
Conversely, major economic
breakdowns tend to occur when important prices are artificially fixed, causing
people to make more mistakes than usual ;

·
The current crisis is traceable to
fixing the price of credit at very low levels.
People often disagree when this started - the first oil-price hike in
1973? Or the crash of 1987? The Asian/Russian crash of 1997-8? The dot com
bubble in 2000? 9/11 in 2001? But what is not disputed is the phenomenon
itself;

·
Low interest rates have led to
‘malinvestment’, a devastating housing bubble in the private sector and
under-funded social services in the public sector;

·
The result : huge debts that
will never be repaid.

The sooner this is recognized the
better : wipe the slate clean and
start again.

Misguided
economic policies

Everyone agrees that de-leveraging public
finances by raising taxes and cutting expenditure is making the problem worse.
But what are the alternatives? Kick-starting economic growth by increasing public debt and public
expenditure will not work. The ‘bond
vigilantes’ will raise the cost of credit to unbearable levels long before any
purely hypothetical growth kicks in.

Why would such growth be hypothetical? Because Keynesian stimulus no longer works
(if it ever did). The extra cash poured
into the economy promptly drains away, leaving only extra debt and an unwanted
sports stadium in its place. Of course
the extra cash raises GDP while it is being spent and the sports stadium is
being built, but that is not the point.
GDP is not the whole
economy. In fact, it is a rapidly
shrinking part of the economy.

Wealth is also created in the parallel
economy, where barter reigns and transactions are not taxed. This is why increasing taxes on the official
economy is a losing game. People simply
shift their energies elsewhere.

The only way out of the current crisis is to
cut public expenditure and taxes at
the same time - and hope that the official, recorded, taxable economy will
somehow revive. But don’t expect it to
bounce back quickly after the beating it has taken!

Those tired political elites Tony
Curzon Price refers to are not only being exposed as Euro-charlatans, they
are also about to be deprived of both tax revenues and access to financial
markets. In the ensuing chaos the grip
of lobbies on the political process will loosen and we may, perhaps, enjoy real
change and reform., such as Mançur Olsen describes in The Logic of Collective Action.

The
European Union as a ‘political bubble’

I like this notion a lot. I think it accurately describes past history
and the current crisis of European integration. George Soros shows how the EU started out
with all the right values and intentions, making a few modest steps at a time
towards the far-distant goal of ‘ever closer union among the peoples of Europe’,
achieving free trade and the free movement of goods, factors, people and
services. The problem, as with the
Amsterdam tulip mania or the housing boom on the Costa Esmeralda, is to know
when to stop. After the fall of
Communism and the wholly unexpected collapse of the Soviet Union, our fearless
leaders felt that the sky was the limit – and went for it. We are now paying dearly for this huge leap
into the unknown.

As Enrique
Mora points out, the one-size-fits-all euro led to huge but invisible
current account imbalances in the Eurozone.
Portugal, for example, ran a 10% GDP current account deficit for several
years, financed entirely by Europe’s private commercial banks, while happy
Portuguese mortgaged the family farm and bought lavish SUVs. The academic discussion on what is a
‘sustainable’ current account deficit looks distinctly beside the point…

The internal current account imbalances of the
Eurozone compounded the
mal-investment due to zero or even negative real interest rates, contributing
mightily to the banking crisis and to a trillion euro build–up of claims by the
German Bundesbank on other central banks of the Euro system which will never be
repaid. Thus the political ‘bubble’
interacts with the financial and economic bubble

The best way forward is to let them
burst, wipe the slate clean as quickly
as possible and start again. And
according to Soros, we have only three months to go.